Mon Mar 29th, 2021 at 05:39:41 PM EST
Ponzis Go Boom!!!
The SPAC market is in the process of detonating and it will take the Ponzi Sector with it.
(SPAC = Special Purpose Acquisition Company. All the cool guys and gals have one.)
By Harris "Kuppy" Kupperman, founder of Praetorian Capital, Adventures in Capitalism:
For the past few years, I have been critical of the Ponzi Sector. To me, these are businesses that sell a dollar for 80 cents and hope to make it up in volume. Just because Amazon (AMZN - USA) ran at a loss early on, doesn't mean that all businesses will inflect at scale. In fact, many of the Ponzi Sector companies seem to have declining economics at scale--largely the result of intense competition with other Ponzi companies who also have negligible costs of capital.
I recently wrote about how interest rates are on the rise. If capital will have a cost to it, I suspect that the funding shuts off to the Ponzi Sector--buying unprofitable revenue growth becomes less attractive if you have other options. Besides, when you can no longer use presumed negative interest rates in your DCF, these businesses have no value. I believe the top is now finally in for the Ponzi Sector and a multi-year sector rotation is starting. However, interest rates are only a small piece of the puzzle.
Conventional wisdom says that the internet bubble blew up due to increasing interest rates. This may partly be true, but bubbles are irrational--rates shouldn't matter--it is the psychology that matters.
I believe two primary forces were at play that finally broke the internet bubble; equity supply and taxes. Look at a deal calendar from the second half of 1999. The number of speculative IPOs went exponential. Most IPOs unlock and allow restricted shareholders to sell roughly 180 days from the IPO. Is it any surprise that things got wobbly in March of 2020 and then collapsed in the months after that? Line up the un-lock window with the IPOs. It was a crescendo of supply--even excluding stock option exercises and secondary offerings. The supply simply overwhelmed the number of crazed retail investors buying worthless internet schemes.
Back in 2000, I used to joke that in a scenario where a company wanted to raise equity capital, but insiders wanted to sell, they'd both dump shares on the market--but the insiders would get out first. What do you think that did to share prices as both parties fought for the few available bids?
However, the proximate cause of the internet bubble's collapse was when people got their tax bills in March and had to sell stocks to pay their taxes in April. What's the scariest thing in finance? It's when you owe a fixed tax bill from the prior year, yet your portfolio starts declining. You start selling fast to stop the mismatch. Trust me, I've been there. Tax time is pushed back a bit this year, but it is coming.
Kuppperman makes some valuable observations about the timing of such collapses.
Let's look back at the internet bubble. A VC firm would IPO 4 million shares at $20, the stock would open at $50 and end the day at $100. Everyone chased it to get in. Then the brokers would upgrade it and the CEO would go on TV. With a 4 million share float, it was easy to manipulate the shares higher. Often, the newly IPO'd company would level out well north of $100 a few weeks later. It was a virtuous cycle and everyone played the game.
What was left unsaid was that there were another 46 million shares held by management and VCs and these shares would hit the market 180 days later. At first, the market absorbed the new supply so no one showed concern--then the market choked. I wrote about this when talking about the QS unlock. This process is about to repeat, but now with the odd nuances of SPACs.
A typical SPAC deal involves a few hundred million dollars raised for the SPAC trust--this is the only real float. Then a few hundred million more is raised for the PIPE--these guys are buying at $10 because they plan to flip for a gain as soon as the registration statement becomes effective--which is often a few weeks after the deal closes. When a company merges with a SPAC, billions in newly printed shares are given to the former owners--those shares start to unlock a few months later in various tranches. Finally, the promoters behind the SPAC get to sell.
When you look at a pre-merger deal trading at a big premium to the $10 trust value, you're looking at an iceberg. There might be ten or twenty restricted shares for every free trading share--all of these guys desperately want out. It's a game theory exercise--how do you find enough bag-holders without destroying the price? Hence, part of why the current price is determined by an artificially restricted float and the unlocks come in tranches. As restricted shares come unlocked, the promoters lose control of the float and the house of cards collapses.
Deregulation contributes to this fiasco:
The Firm Behind The $30 Billion Firesale Shaking Financial Markets Disclosed Almost Nothing Antoine Gara - Forbes
Up until recently, the website of Archegos Capital Management, the firm behind a reported $30 billion financial firesale that is battering stocks worldwide, contained a giant image of Central Park. The vista displayed on Archegos' webpage was a fitting homage to the views of its offices atop a Manhattan skyscraper on 57th street, until the site was taken down as the firm gets liquidated.
Archegos was a giant in U.S. financial markets, apparently holding tens of billions of dollars in securities, including massive exposures to companies like ViacomCBS, Discovery Communications and Baidu. It traded with Wall Street's largest brokerages, and was headquartered at an expensive address housing many powerhouse investment firms. But when it came to routine financial disclosures, Archegos was virtually non-existent.
EDGAR is the sunlight in U.S. financial markets. Companies must disclose material information in filings uploaded to the site. Corporate insiders and large investment funds report their holdings and any changes to their positioning. Most all public capital raises are documented on EDGAR, and all sorts of entities reveal themselves on it. EDGAR is an informational treasure trove.
Exceptions, exceptions, exceptions!
That is, except when it comes to Archegos and its founder and co-CEO Sung Kook (Bill) Hwang. Forbes could not find a single filing from Archegos, despite its whale-sized positioning that banks like Goldman Sachs and Morgan Stanley now are in the process of unwinding. It would have been good to know about Hwang and the seemingly breathtaking risks he and his firm were taking.
In 2012, the Securities and Exchange Commission, brought an insider trading and market manipulation case against Hwang and his Tiger Asia. The firm and its founder agreed to pay $44 million in total fines and penalties. Tiger Asia Management, the management company, admitted to breaking the law. The SEC's probe effectively put Tiger Asia out of business.
So in 2013, Hwang converted the firm into a "family office," set up to manage his private wealth. The family office, Archegos Capital Management, appears to be massive, not just in size and scope, but also in risk appetite. However, its status as a family office exempts it from the Securities and Exchange Commission's reporting requirements for investments.
"Family Office" sounds so innocuous. What harm could come from exempting them from onerous reporting requirements?